Editorial Note: Happy Thanksgiving! We hope you reflect gratefully this season, as we will. And speaking of reflecting, you might think with markets hitting new all-time highs after the election that we’ve beaten a retreat (what the military calls without irony “advancing to the rear”) from our two-year declamation about coming risk-asset revaluation. We’re by no means complaining about gains. We think prospects for the USA merit giving thanks.
But there will be no escaping the consequences of artificial asset-price inflation. You can’t blow a balloon full of air and suppose it’ll float forever. Runs here in November will have a profound reversal magnified by the meteoric dollar-rise. Whether it happens in days or weeks, it’s coming. The question for the new administration will be whether it possesses the fortitude to let prices find proper equilibrium so the economy can actually find “escape velocity” finally, in its aftermath. -TQ
Originally posted Nov 9, 2016:
Power changed hands in the USA today.
I don’t know in what way yet because I’m writing before election outcomes are known, and about something for the market that will be bigger than which person sits in the oval office or what party holds congressional sway.
The GRAR is a lousy acronym, I admit. If somebody has got a better name, holler. We started talking about it in latter 2014. It’s the Great Risk Asset Revaluation. We had the Great Recession. Then followed the Great Intervention. What awaits the new Congress and President is the GRAR.
I’ll give you three signs of the GRAR’s presence. Number one, the current quarter is the first since March 2015 for a rise in earnings among the S&P 500, and the first for higher revenues since October 2014. Until now, companies have been generating lower revenues and earning less money as stocks treaded water, and the uptick still leaves us well short of previous levels.
Since 1948, these recessions in corporate financials of two or more quarters have always accompanied actual recessions and stock-retreats. The GRAR has delayed both.
Second, gains off lows this year for the Dow Jones Industrial Average have come on five stocks primarily. One could use various similar examples to make this point, but it’s advances dependent on a concentrated set of stocks. This five – which isn’t important but you can find them – include four with falling revenues and earnings. Counterintuitive.
Finally, the market is not statistically higher (adding or subtracting marketwide intraday volatility for all prices of nearly 2% daily) than it was in December 2014.
That’s remarkable data. It says prices are not set by fundamentals but intervention.
We might think that if earnings growth resumes, markets will likewise step off this 2014 treadmill and march upward. And that’s independent of whatever may be occurring today – soaring stocks or falling ones, reflecting electoral expectations versus outcomes.
In that regard, our data showed money before the election positioned much as it was ahead of the Brexit vote: Active buying, market sentiment bottomed, short volume down – bullish signals.
You’ve heard the term “delayed gratification?” It means exercising self-discipline until you’re able to afford desired indulgences. Its doppelganger is delayed consequences, which is the mistaken idea that because nothing bad arises from bad decisions that one has escaped them.
The bad decision is the middle one – The Great Intervention. The Great Recession was a consequence arising from a failure to live within our means. When we all – governments, companies, individuals – spend less than we make, nobody ever needs a bailout.
But you don’t solve a profligacy problem by providing more access to credit. The breathtaking expansion of global central-bank balance sheets coupled with interest rates near zero is credit-expansion. To save us from our overspending, let’s spend more.
If I held in my palms a gold coin and a paper dollar and I said to you, “Pick one,” which would you take?
If you said “the dollar bill,” I can’t help you and neither can Copernicus, who first described this phenomenon that explains the GRAR 500 years ago. Nearly everybody takes the gold, right? We inherently know it’s more valuable than the paper, even if I tell you they have the exact same value. This principle is called Gresham’s Law today.
Credit does not have the same value as cash. But assets in the world today have been driven to heights by credit, the expansion of which diminishes the value of cash.
What happens when the people owning high-priced assets such as stocks, bonds, apartments in New York, farmland in Nebraska and so on want to sell them? All the cash and credit has already been consumed driving prices up in the first place.
What will follow without fail is the GRAR. Depending on who got elected, it might come sooner or later. But without respect to the winner, it’s coming. The correct solution for those now in power is to avoid the temptation to meet it with credit again, and to let prices become valuable and attractive. Painful yes, but healthy long-term.
That’s the path out of the GRAR. I hope our winner has the discipline to delay gratification.
